Many investors have trouble looking at Groupon (GRPN) from a business model standpoint because the company pitches a fairly new idea. When looking at the business from a big picture standpoint, there are three parties that must profit from Groupon. These are the subscribers, the merchants, and the company itself.
The big advantage that Groupon has is its subscriber base. There were 30 million Groupon subscribers at the end of Q3 2011, and this number will be around 35 million in its next earnings announcement. Groupon is the number one daily deals site in terms of subscribers in 35 different countries. However, there are several risks that Groupon faces when it comes to subscribers. There are now over 500 daily deals sites worldwide and over 100 in the United States. Any one of these sites can be the next major daily deals site and Groupon could be left in the dust like Myspace was with Facebook's entrance.
In addition, Groupon subscribers currently do not have a major anchor to keep subscribers for a reason other than its daily deals. Google Offers subscribers have Gmail accounts and other Google (GOOG) services while credit card rewards programs provide a service other than just deals. However, the company has been chaning this by adding to its product line. This includes new offerings like Groupon Live, Groupon Getaways, and Groupon Goods. The company also risks losing subscribers if they fail to continue attracting merchants.
Recent bearish activity on Groupon stock has been from concerns over Groupon's merchant retention. The company has responded by releasing the Merchant Center, which shows merchants their ROI from using Groupon as a marketing instrument. However, it is overly simplistic. There is no way to know if Groupon customers would have used the service without the Groupon and monitoring repeat business is very difficult. In addition, earnings are a major concern. With deals being for more than 50 percent off and Groupon taking about 50 percent of deal revenue, merchants get at most 25 percent of what they would normally charge for their product or service.
Despite Groupon having an obvious ROI in terms of revenue, many businesses lose money on their Groupons and can only be profitable on high repeat business. Merchants that can potentially profit with Groupon are realistically limited to companies with very high fixed costs and very low variable costs. This includes theme parks, movie theaters, museums, and video arcades. I believe the food service industry will eventually stop using Groupon or significantly reduce usage, and this could destroy Groupon's future earnings potential.
Groupon takes about 50 percent of each Groupon it sells, which is a huge cut. I was in complete shock when I first heard that the company was not profitable. I believe for Groupon to stay competitive in the future, the company will not be able take such a big chunk from each Groupon sold. Groupon's cut will also have to decrease for Groupons to become profitable in the food service industry and retail industry. I believe that competitors will lower their cuts enough to simply stay in business. Subscribers will go where the merchants are and merchants will go where it is cheapest for them to promote their products and services. Long term, this can mean an end to Groupon or at least its potential profitability.
I believe that daily deals sites will be around as long as there are websites, and they will continue to be popular. However, I don't believe that Groupon can ever become the profitable behemouth like Google became from similar roots. It's important to remember that Google was not the first search engine, Windows was not the first operating system, Facebook was not the first social network, and that AOL used to be a $200 billion company. Daily Deals is very likely to be taken over by Google, Facebook, or maybe even a company that hasn't even been started yet. Groupon is still a very expensive short, and there is still potential for upward spikes in the future, since the stock has such a small float. I recommend shorting the stock or buying put options at $19.50, and those who are very bearish should consider holding a short position in GRPN before its next earnings announcement.